Things Financial - 11 Lifestyle Creep

Perhaps you’ve heard this term before, perhaps not. It refers to the idea that your spending will expand to consume all of the money available to it. This is where there will be a great need for self discipline. Or perhaps accountability to a partner.

If you are accustomed to being broke and now have been working to pay down bills, you may one day look at your pay cheque and think “I’ve made all of my payments for the next 2 weeks. I’ve been really good at this. I need a reward. I need new shoes.”

The need for new “shoes” may be real or imagined. It might be just a desire for new “shoes.” And I’m not talking about just shoes. “Shoes” are just a place holder here. “Shoes” could be anything that you’ve gone without for a while and want to buy. It could be anything new. A bigger TV. A newer phone. A flashier car. A gym membership. A Franklin Mint plate. A trip to the casino. Fishing gear. An $8 cup of coffee. New shoes. Anything.

You need to question yourself – and be honest – do you really need new "shoes" or do want to buy them because you’re tired of this whole budgeting thing? Are you wanting to spend money to give yourself a feeling of freedom? Is the purchase mostly about emotional gratification? If the answer is ‘Yes’ then you need to reconsider that purchase.

Marketers know how to push our emotional buttons. That’s their job. This sounds harsh when I put it on paper (or on electrons) but when it comes to making most financial decisions you need to think about the math first and your emotions second.

This doesn’t mean that you can never buy anything that you want. It just means that you you need to be thoughtful about it.

My mother the farmer used to say, “If you see something and you really want to buy it; don’t. If you still want it in a week, go ahead.” This was her way of building in a personal cooling off period. (In my province there is a legislated cooling off period for cold-call sales.) It gives a person time to re-evaluate their priorities.

You could ask yourself about the “shoes.” Do you really need them? Are your old shoes worn out? Do you need them for work? Are they trendy? Would they look good in your collection? Will your friends be impressed? Are you bored with not buying things?

Take some time and think about how you will feel about the purchase next week. Will you still be happy with having spent the money? Will there be other “shoes” that you’ll want and have no money to buy?

There is a psychological condition called “Buyer’s Remorse.” It takes place after a person has bought something that they thought would bring them happiness or satisfaction and they later find that they regret the purchase. They may feel disappointment, guilt or anxiety. Have you had Buyer's Remorse in the past? You’re less likely to get Buyer’s Remorse if you take some time to think about a purchase before you make it.

Slow down, take a longer view. Would the money spent on new “shoes” be better spent on something else or saved for later. Don’t let your lifestyle consume your life savings.

In the days when I got paid bi-weekly there would be 2 months a year with 3 pay cheques. I designed my spending to get by on 2 cheques a month. The habit I developed was to pay off any bills then, of the remaining money, I would spend half and save half. Same thing if I got a windfall. If I got a bonus. If I worked some over-time. If I found some money on the ground (I found $70 blowing down the street one day). First pay bills then save half – spend half.

A raise in pay happens now and then. If you allow your lifestyle to consume all of the new, extra, income you will end up in no better financial condition than when you started. You are accustomed to living on your old, lower, pay. When you get a raise, save half and spend half. You will still get some of the lifestyle creep you want (and deserve) but it will be slower than it would otherwise be. With a few raises over the years this system also leads to savings creep, with your saving rate increasing over time.

Savings act as a shield against financial hardship and over time, through wise investment, can contribute to income.

It worked for me. It can work for you.

Things Financial - 10 When will you need your money?

The answer that many people will give is, “right now.” Of course it would be nice to have all the money you want right now but that’s frequently not how things work out. You are probably going to have to plan and save to get any appreciable amount of cash. When planning and saving it’s important to think about when you will want, or need, to spend it. After all, what’s the point of having money if you never spend it, it’s a tool to be used. But working, saving & spending have to be in balance if you want to avoid financial problems.

Knowing when (approximately) you will be spending your money, and how much you plan to spend, will help you to plan your savings and investments. Not all investments are created equal.

Knowing the time line for your savings & spending will also help with tax planning. The idea of tax planning my seem foreign to many people and that’s not a surprise. In my early life I had no need for tax planning. I made money and I spent it. Somewhere in the middle the government took its cut. No planning necessary. The money just came off of every cheque. The path was fixed. The Income tax was set.

When you start to accumulate money you start to get some options. Unless you hold only cash you will be putting your money into something; some sort of investment. You’ll try to make your money make money. Many of the options available will have tax treatments and rates that are different form the rate you pay when the money comes from working for a living. The tax treatment for Working Income is generally worse, and the tax rates higher, than they are for investment income.

When you are starting on a savings plan the amount you have will be relatively little compared to what your will have later (in a perfect world). Because this is the case the absolute difference between a good tax strategy and a poor one will not be a lot of dollars. Use the early years of your financial adventure to educate yourself about tax planning. It will become more important later.

As an example, until about 2020, if you lived in Alberta, you could make a little over $90,000 in Dividend Income and pay zero Alberta tax. Of course you still had to pay Federal Tax but it was at a reduced rate; lower than for Working Income. A few years ago Alberta changed the Dividend tax rate so now the first $90,000 is taxed at 2.5% (Oh! The horror!) An equal amount of Working Income would have an Effective Tax Rate of about 7.75%. About three times as high!

I know that some readers will see the unfairness of the tax system and feel the need to complain about it. Good! You won’t hear me say anything different. Let you local MP and MLA know that the tax system needs to be reworked. The rich should be paying more than the poor, not the other way around. There need to be more tax brackets and the taxes in the upper end need to be a lot higher....

Oops.

Now I’ve gone on a runner...

Returning to my original point: Knowing the tax rules around investment types can make a big difference in how much of your money you eventually get to keep and to spend. A way to help figure out where you might like to put your money is to pull up your last year’s T1 tax form and change a few numbers. I assume that this can be done. I’m an old man and I still like to do my taxes long-hand on paper and mail them in. I’m sure it’s a pain in the butt for the CRA but I like to follow the numbers through the calculations and see what rules have changed from year to year.

If you can’t pull up last year’s taxes try using some different numbers next year. I shouldn’t have to say this but I will – Don’t submit a tax form with false numbers in it. That will get you into big trouble.

Try this: Figure your true tax bill and find the line for Total Tax Owed (Line 43500). Try adding an extra $1,000 to your Working Income (Line 10100) and see how much your Total Tax Owed changes. Now take the $1,000 from your Working Income and put it into the line for Eligible Dividends (Line Worksheet + Line 12000)and see how the Total Tax Owed changes. Try putting it in as Capital Gains Income (Schedule 3 + Line 12700) and as Rental Income (I can't help you here) and as Interest Income (Worksheet + Line 12100). Note how your total tax owed changes as you change where the money comes from. The amount of tax you pay can change depending on where your income comes from. This should give you some ideas of what you might like to invest in.

Make sure to change your tax form back to its original state or just close it without saving. You don’t want to keep a document with incorrect numbers. This experiment was just to explore the tax system.

Time line is important too. Some investments, like stocks and real estate, are better bets for long term investments. Stocks, even good ones, can drop in the short term. Real Estate has a lot of costs when both buying and selling. It will generally take time to make up those costs before the investment can be sold for a profit. Bonds can be a good mid term investment. You can hold them to maturity or, if conditions are right, sell them for a slight profit. I don’t deal in bonds, the interest rates have been too low too long for my liking.

For short term investments you should look at Guaranteed Investment Certificates, short term Bonds and Treasury Bills. For Bonds & T-Bills you are most likely to get them through a fund that deals in such things. Most people don’t have enough money or knowledge to buy these things on their own.